Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, We...
Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, We...
Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, We...
Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, We...
Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, We...
Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, We...
Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, We...
Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, We...
Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, We...
Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, We...
Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, We...
Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, We...
Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, We...
Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, We...
Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, We...
Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, We...
Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, We...
Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, We...
Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, We...
Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, We...
Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, We...
Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, We...
Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, We...
Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, We...
Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, We...
Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, We...
Upcoming SlideShare
Loading in …5
×

Fundamentals of Corporate Finance/3e,ch17

1,038 views

Published on

Published in: Economy & Finance, Business
0 Comments
0 Likes
Statistics
Notes
  • Be the first to comment

  • Be the first to like this

No Downloads
Views
Total views
1,038
On SlideShare
0
From Embeds
0
Number of Embeds
2
Actions
Shares
0
Downloads
42
Comments
0
Likes
0
Embeds 0
No embeds

No notes for slide

Fundamentals of Corporate Finance/3e,ch17

  1. 1. Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, Westerfield and JordanSlides prepared by Sue Wright17-1Chapter SeventeenIssuing Securities to the Public
  2. 2. Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, Westerfield and JordanSlides prepared by Sue Wright17-217.1 The Public Issue17.2 The Cash Offer17.3 New Equity Sales and the Value of the Firm17.4 The Costs of Issuing Securities17.5 Rights17.6 Dilution17.7 Issuing Long-term Debt17.8 Summary and ConclusionsChapter Organisation
  3. 3. Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, Westerfield and JordanSlides prepared by Sue Wright17-3Chapter Objectives• Outline the advantages and disadvantages of public companylisting.• Discuss the process of underwriting and the associated costs.• Identify the costs associated with issuing securities.• Explain the process of a rights issue and calculate the value ofa right.• Discuss the dilution effect of new issues.• Understand the reasons for recent growth in the corporatedebt market.
  4. 4. Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, Westerfield and JordanSlides prepared by Sue Wright17-4Issuing Securities to the Public• Analyse funding needs and how they can be met.• Approval from board of directors for a public issue.• Outside expert opinions sought for support ofissue.• Pricing, time-tabling, prospectus prepared,marketing.• Prospectus filed with ASIC and ASX.
  5. 5. Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, Westerfield and JordanSlides prepared by Sue Wright17-5Issuing Securities to the Public• Underwriting agreement executed.• Prospectus registered.• Public announcement of offering.• Funds received.• Shares allotted, holdings registered.• Shares listed for trading on ASX.
  6. 6. Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, Westerfield and JordanSlides prepared by Sue Wright17-6New Issues• Flotation is the initial offering of securities to thepublic.• Primary issues used to:– convert from a private company to a public company– spin-off a portion of the business of a listed company– form a new public company– privatise a public organisation, or demutualise a mutualsociety.
  7. 7. Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, Westerfield and JordanSlides prepared by Sue Wright17-7Advantages of Public CompanyListing• Access to additional capital.• Increased negotiability of capital.• Growth not limited by cash resources.• Enhancement of corporate image.• Can attract and retain key personnel.• Gain independence from a spin-off.
  8. 8. Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, Westerfield and JordanSlides prepared by Sue Wright17-8Disadvantages of Public CompanyListing• Dilution of control of existing owners.• Additional responsibilities of directors.• Greater disclosure of information.• Explicit costs.• Insider trading implications.
  9. 9. Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, Westerfield and JordanSlides prepared by Sue Wright17-9Secondary Issues• Private placements—securities are offered and sold to alimited number of investors who are often the current majorinvestors in the business.• Rights issues—issue of shares made to all existingshareholders, who are entitled to take up the new shares inproportion to their present holdings.• Terms are determined by:– amount of funds required by the company– the market price of the company’s securities– general economic conditions– desire to benefit shareholders– nature of the company’s shareholders.
  10. 10. Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, Westerfield and JordanSlides prepared by Sue Wright17-10Underwriting• Firm underwritingA guarantee that funds will be made available to a companyat a specific time on agreed terms and conditions.• Standby underwritingWhere the bidding company has insufficient cash in asuccessful bid or if cash is offered as an alternative to a sharebid.• Best efforts underwritingUnderwriter must use ‘best efforts’ to sell the securities at theagreed offering rate.
  11. 11. Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, Westerfield and JordanSlides prepared by Sue Wright17-11Underwriting• Role of underwriter– pricing the issue– marketing the issue– engaging sub-underwriters– placing the shortfall• Sub-underwriter– A group of underwriters formed to reduce the risk and tohelp to sell an issue.
  12. 12. Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, Westerfield and JordanSlides prepared by Sue Wright17-12Underwriting Fees• The underwriter’s fee is a reflection of the:– size of the issue– issue price– general market conditions– market attitude towards shares– time period required for underwriting.• Fees also include brokerage and management fees.
  13. 13. Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, Westerfield and JordanSlides prepared by Sue Wright17-13Average Initial ReturnsAnnual sales ofissuing firm ($)Numberof firmsAverageinitial return (%)0 386 42.91 – 999 999 678 31.41 000 000 – 4 999 999 353 14.35 000 000 –14 999 999 347 10.715 000 000 – 24 999 999 182 6.525 000 000 or larger 493 5.3All 2 439 20.7Source: Ibbotson, Sindelar and Ritter (1988)
  14. 14. Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, Westerfield and JordanSlides prepared by Sue Wright17-14New Equity Sales—ResearchFindings• Shares prices tend to decline after a new equity issueannouncement, but rise following a debt announcement.• Why?– Management has superior information about firm valueand knows when the firm is overvalued → sell equity.– Excessive debt usage.– Substantial issue costs.– Management needs to understand the signals that anequity issue sends.
  15. 15. Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, Westerfield and JordanSlides prepared by Sue Wright17-15The Cost of Issuing SecuritiesUnderwriter’s commission This consists of direct fees paid by the issuer to theunderwriting syndicate.Other direct expenses These are direct costs, incurred by the issuer, that arenot part of the compensation to underwriters. Thesecosts include filing fees, legal fees, and taxes—allreported on the prospectus.Indirect expenses These costs are not reported on the prospectus andinclude the costs of management time spent working onthe new issue.Abnormal returns In a seasoned issue of shares, the price drops onaverage by 3 per cent upon the announcement of theissue.Underpricing For initial public offerings, losses arise from selling theshares below the correct value.
  16. 16. Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, Westerfield and JordanSlides prepared by Sue Wright17-16Rights Offerings—Basic Concepts• Rights offeringIssue of ordinary shares to existing shareholders.• Allows current shareholders to avoid the dilution that can occurwith a new share issue.• ‘Rights’ are given to the shareholders specifying:– number of shares that can be purchased– purchase price– time frame.• Shareholders can either exercise their rights or sell them. Theyneither win nor lose either way.
  17. 17. Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, Westerfield and JordanSlides prepared by Sue Wright17-17Rights Offerings—Basic Concepts• Subscription priceThe dollar cost of one of the shares to be issued, generallyless than the current market price.• Ex-rights dateBeginning of the period when shares are sold without arecently declared right, normally four trading days before theholder-of-record date. The share price will drop by the valueof the right.• Holder-of-record dateDate on which existing shareholders are designated as therecipients of share rights.
  18. 18. Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, Westerfield and JordanSlides prepared by Sue Wright17-18Ex-rights Share PricesRights-on Ex rightsAnnouncementdate date dateEx-rights Record30 September 13 October 15 OctoberRights-onprice$20.00Ex-rightsprice$16.67$3.33 =Value of a right
  19. 19. Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, Westerfield and JordanSlides prepared by Sue Wright17-19Theoretical Rights PricernSMnofferedsharesadditionalofnumberissuerightstheofpriceissueoronsubscriptipricemarketrightaobtaintoheldsharesofnumberrSMnWhere:
  20. 20. Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, Westerfield and JordanSlides prepared by Sue Wright17-20Example—Rights IssueLemon Co. currently has 5 million shares on issuewith a market price of $8 each. To finance newprojects, the company needs to raise an additional$6 million. To raise the finance, the companymakes a rights issue at a subscription price of $6per share.
  21. 21. Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, Westerfield and JordanSlides prepared by Sue Wright17-21Example—Rights Issue (continued)• The number of new shares to be sold:• The holder of one right is entitled to subscribe to one newshare at $6 per share.• To issue 1 million shares, the company would have to issue1 million rights.• The company has 5 million shares on issue, which meansthat for every 5 shares held, a shareholder is entitled toreceive one right (1-for-5 rights issue).shares0000001$6000000$6priceonsubscriptiraisedbetofunds
  22. 22. Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, Westerfield and JordanSlides prepared by Sue Wright17-22Example—Rights Issue (continued)• Calculate the theoretical rights price:• If an outsider buys a right, it will cost $1.67.• The right can be exercised at a subscription price of $6.• Total cost of a new share = $1.67 + $6 = $7.67.$1.6715$6$85rnSMn
  23. 23. Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, Westerfield and JordanSlides prepared by Sue Wright17-23The Value of RightsInitial position No. of shares 5 millionShare price $8Value of firm $40 millionTerms of offer Subscription price $6No. new shares issued 1 millionAfter issue No. of shares 6 millionValue of firm $46 millionShare price $7.67Value of right per share $0.33*Value of a right $1.65***$8.00 – 7.67 = 0.33**$0.33 × 5 = $1.65
  24. 24. Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, Westerfield and JordanSlides prepared by Sue Wright17-24New Issues and Dilution• Dilution– Loss in existing shareholders’ value in terms of eitherownership, market value, book value or EPS.• Types of dilution– Dilution of proportionate ownership—a shareholder’sreduction in proportionate ownership due to less-than-proportionate purchase of new shares.– Dilution of market value—loss in share value due to useof proceeds to invest in negative NPV projects.– Dilution of book value and earnings per share (EPS) —reduction in EPS due to sale of additional shares. Thishas no economic consequences.
  25. 25. Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, Westerfield and JordanSlides prepared by Sue Wright17-25Corporate DebtThe late 1980s saw a major growth in the Australiancorporate debt market due to:– the substantial cutback in the level of governmentborrowing– the fall in interest rates from extremely high levels– the flight to quality– the shortage of government bonds– the attractiveness of raising funds in the domestic marketrelative to that of the euromarket.
  26. 26. Copyright  2004 McGraw-Hill Australia Pty LtdPPTs t/a Fundamentals of Corporate Finance 3eRoss, Thompson, Christensen, Westerfield and JordanSlides prepared by Sue Wright17-26Long-term DebtDifferences between direct, private long-term financing andpublic issues of debt include:– direct loans avoid ASIC registration costs– direct loans have more restrictive covenants– term loans and private placements are easier torenegotiate than public issues– private placements are dominated by life insurancecompanies and pension funds, whereas commercialbanks dominate the term-loan market.

×